Institute of Information Theory and Automation

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Knight Meets Sharpe: Capital Asset Pricing under Ambiguity

2020-04-15 14:00
Name of External Lecturer: 
Yehuda Izhakian
Affiliation of External Lecturer: 
New York University, U.S.A

In this talk, the mean-variance preferences will be extended to mean-variance-ambiguity preferences by relaxing the assumption that probabilities are known, and instead assuming that probabilities are uncertain. The optimal portfolio is identified in general equilibrium, demonstrating that the two-fund separation theorem is preserved. Thereby, introducing ambiguity into the capital asset pricing model demonstrates that the ambiguity premium corresponds to systematic ambiguity, which is distinguished from the systematic risk. Using the closed-form measurable beta ambiguity, performance measures are generalized to account for ambiguity alongside risk. Use of this model can be extended to other applications including investment decisions and valuations. The introduced asset pricing model is empirically applicable and provides insight into empirical asset pricing anomalies.

2020-02-28 08:14